Türkiye Finans Katılım Bankası Anonim Şirketi

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2 Türkiye Finans Katılım Bankası Anonim Şirketi TABLE OF CONTENTS Page Independent auditors report Consolidated statement of financial position 1 Consolidated statement of profit or loss and other comprehensive income 2 Consolidated statement of changes in equity 3 Consolidated statement of cash flows 4 Notes to the consolidated financial statements 5 58

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4 Consolidated Statement of Financial Position As at 30 June 2014 Notes 30 June December 2013 Assets Cash and balances with Central Bank 13 3,028, ,398 Loans and advances to banks , ,203 Loans, lease receivables and advances to customers 15 20,269,967 18,200,352 Derivative assets held for trading 16 27,077 46,669 Available-for-sale investment securities 17 1,610,787 1,413,025 Held-to-maturity investment securities ,358 - Property and equipment , ,689 Intangible assets 18 35,130 37,149 Deferred tax assets 12 31,110 32,412 Other assets 19 3,768,440 3,227,187 Total assets 29,915,576 25,047,084 Liabilities Deposits from banks , ,617 Deposits from customers 21 16,802,365 14,818,621 Funds borrowed 22 5,227,153 4,813,322 Debt securities issued 22 2,771,173 1,074,246 Derivative liabilities held for trading 16 15,773 39,140 Provisions , ,503 Current tax liabilities 12 27,382 13,043 Other liabilities 24 1,694,047 1,213,312 Total liabilities 27,134,198 22,469,804 Equity Share capital 25 1,775,000 1,775,000 Reserves 179, ,056 Retained earnings 826, ,224 Total shareholders' equity 2,781,378 2,577,280 Total liabilities and shareholders' equity 29,915,576 25,047,084 The notes on pages 5 to 58 are an integral part of these financial statements. 1

5 Consolidated Statement of Profit or Loss and Other Comprehensive Income For the Six-Month Period Ended 30 June 2014 Notes For the six month period ended 30 June 2014 For the six month period ended 30 June 2013 Profit share income: Income on loans 900, ,836 Income on investment securities 59,569 26,409 Income on deposits at banks Income on financial leases 37,529 15, , ,690 Profit share expense: Expense on deposits (360,493) (268,605) Expense on borrowings (96,300) (47,200) Others (35,986) (8,159) (492,779) (323,964) Net profit share income 504, ,726 Fee and commission income 7 109,490 83,426 Fee and commission expense 7 (36,815) (22,698) Net fee and commission income 72,675 60,728 Net trading income 8 (10,810) 12,313 Other operating income 9 27,909 24,658 Foreign exchange gain, net 27,486 21,493 Other operating income 44,585 58,464 Total operating income 621, ,918 Personnel expenses 10 (190,419) (155,960) Administrative expenses (91,125) (68,363) Net impairment loss on financial assets 15, 23 (61,226) (80,619) Depreciation and amortisation 18 (25, 369) (17,417) Taxes and duties other than on income (14,043) (10,875) Other operating expenses 11 (32,969) (19,818) Total operating expenses (415,151) (353,052) Profit before tax 206, ,866 Income tax expense 12 (40,299) (36,415) Net profit for the period 166, ,451 Other comprehensive income Items that will never be reclassified to profit or loss Net change in remeasurements of defined benefit liability - - Net change in revaluation of tangible assets - - Related tax - - Items that are or may be reclassified to profit or loss Net change in fair values of available-for-sale financial assets 25 46,216 (31,055) Net amount transferred to profit or loss Related tax 25 (9,436) 6,184 Other comprehensive income for the period, net of tax 37,742 (24,738) Total comprehensive income 204, ,713 The notes on pages 5 to 58 are an integral part of these financial statements. 2

6 Consolidated Statement of Changes in Equity For the Six-Month Period Ended 30 June 2014 Notes Share capital Fair value reserve Revaluation reserve Other reserves Retained earnings Total Balances at 1 January ,650,000 6,901 89,615 58, ,988 2,179,587 Total comprehensive income for the period Net profit of the period , ,451 Other comprehensive income Net change in fair value of available-for-sale financial assets, net of tax 25 - (24,871) (24,871) Net amount transferred to profit or loss Net change in revaluation of tangible assets, net of tax Total other comprehensive income - (24,738) (24,738) Total comprehensive income for the period - (24,738) , ,713 Transactions with the owners, recorded directly in equity Transfers to other reserves ,153 (14,153) - Transfers to share capital Share capital increase 125, ,000 Balances at 30 June ,775,000 (17,837) 89,615 72, ,286 2,430,300 Balances at 1 January ,775,000 (36,795) 89,615 72, ,224 2,577,280 Total comprehensive income for the period Net profit of the period , ,356 Other comprehensive income Net change in fair value of available-for-sale financial assets, net of tax 25-36, ,780 Net change in actuarial gain/(loss) related to employee benefits, net of tax Net amount transferred to profit or loss Net change in revaluation of tangible assets, net of tax Total other comprehensive income - 37, ,742 Total comprehensive income for the period - 37, , ,098 Transactions with the owners, recorded directly in equity Transfers to other reserves ,590 (16,590) - Balances at 30 June ,775, ,615 88, ,990 2,781,378 The notes on pages 5 to 58 are an integral part of these financial statements. 3

7 Consolidated Statement of Cash Flows For the Six-Month Period Ended 30 June 2014 Notes For the six month period ended 30 June 2014 For the six month period ended 30 June 2013 Cash flows from operating activities: Profit for the period 166, ,451 Adjustments for: Depreciation and amortisation 18 25,369 17,417 Net impairment loss on financial assets 15, , ,046 Net change in fair value of derivative instruments held for trading 16 18,833 (1,370) Provision for employee benefits 23 20,969 15,919 Provision for litigation and claims 23 2,208 1,421 Other provision expenses Net profit share income (504,546) (420,726) Income tax expense 12 40,299 36,415 (104,077) (85,149) Change in loans, leasing receivables and advances to customers (2,105,103) (2,686,708) Proceeds from funds borrowed 2,356,428 2,329,005 Repayment of funds borrowed (1,857,852) (1,460,785) Change in other assets (967,572) (611,325) Change in deposits from banks 108,676 (189,059) Change in deposits from customers 1,979,039 2,086,231 Change in other liabilities 369,988 (589,508) (220,473) (1,207,298) Profit share income received 944, ,514 Profit share expense paid (465,138) (304,549) Income tax paid 12 (34,172) (39,589) Net cash provided from / (used in) operating activities 224,575 (821,922) Cash flows from investing activities: Acquisition of available-for-sale investment securities (190,005) (446,258) Proceeds from sale of available-for-sale investment securities 40,511 56,520 Acquisition of property and equipment 18 (173,559) (8,719) Proceeds from the sale of property and equipment 1,338 3 Acquisition of intangible assets 18 (8,254) (5,209) Net cash used in investing activities (329,969) (403,663) Cash flows from financing activities: Proceeds from issue of ordinary shares - 125,000 Proceeds from issue of debt securities 1,689, ,450 Net cash provided from financing activities 1,689, ,450 Net increase / (decrease) in cash and cash equivalents 1,584,454 (226,135) Cash and cash equivalents at 1 January 13 1,878,601 1,599,964 Effect of exchange rate fluctuations on cash held (22,642) 178,837 Cash and cash equivalents at 30 June 13 3,440,413 1,552,666 The notes on pages 5 to 58 are an integral part of these financial statements. 4

8 Notes to the consolidated financial statements Page Note 1 Overview of the Participation Bank 6 Note 2 Basis of preparation 7 Note 3 Significant accounting policies 10 Note 4 Financial risk management 22 Note 5 Use of estimates and judgements 36 Note 6 Operating segment 39 Note 7 Net fee and commission income 41 Note 8 Net trading income 41 Note 9 Other operating income 41 Note 10 Personnel expenses 42 Note 11 Other operating expenses 42 Note 12 Income taxes 42 Note 13 Cash and cash equivalents 44 Note 14 Loans and advances to banks 44 Note 15 Loans, lease receivables and advances to customers 45 Note 16 Derivative financial instruments held for trading 47 Note 17 Investment securities 48 Note 18 Property and equipment and intangible assets 49 Note 19 Other assets 51 Note 20 Deposits from banks 51 Note 21 Deposits from customers 51 Note 22 Funds borrowed and debt securities issued 52 Note 23 Provisions 53 Note 24 Other liabilities 54 Note 25 Capital and reserves 55 Note 26 Related party transactions 56 Note 27 Commitments and contingencies 57 Note 28 Group subsidiaries 57 Note 29 Operating leases 57 Note 30 Events after the reporting period 58 5

9 1. Overview of the Participation Bank 1.1. Brief history Türkiye Finans Katılım Bankası AŞ (the Participation Bank ) was established in accordance with the Provision on Establishment of Participation Banks of Decree No. 83/7506 dated 16 December The Participation Bank (formerly; Anadolu Finans Kurumu AŞ) obtained permission from the Central Bank of Turkey on 24 October 1991 and commenced operations on 4 November In accordance with the resolution in the board meeting of Anadolu Finans Kurumu AŞ numbered 1047, on 31 May 2005 a merger between the Participation Bank and Family Finans Kurumu AŞ was decided. All the assets, liabilities and also off-balance sheet liabilities of Family Finans Kurumu AŞ were transferred to Anadolu Finans Kurumu AŞ during the merger. With the resolution dated 20 October 2005 and numbered 1726 by Banking Regulation and Supervision Agency ( BRSA ), the transfer agreement, signed by the boards of directors of Anadolu Finans Kurumu AŞ and Family Finans Kurumu AŞ and modified draft of main contract of Anadolu Finans Kurumu AŞ were approved. The registry on the decision regarding the merger which was concluded in the general assemblies of both participation banks on 23 December 2005 was approved by BRSA s resolution dated 28 December 2005, and numbered In accordance with BRSA s resolution dated 30 November 2005, and numbered 1747 related to the merger of both participation banks, the title was changed into Türkiye Finans Katılım Bankası AŞ providing that required permission be given by the Council of Ministers within the framework of the 48 th article of the Turkish Commercial Law. The new title was registered by the Turkish Trade Registry of Istanbul on 30 December 2005 in compliance with the Turkish Commercial Law numbered The Participation Bank operates in accordance with the principles of interest-free banking and Islamic rules as a participation bank, by collecting funds through current accounts and profit sharing accounts and lending such funds through 267 branches with 4,397 employees as at 30 June The Participation Bank s head office is located at Adnan Kahveci Caddesi No: Yakacık Kartal/ Istanbul Ownership With the authorisation of BRSA, numbered 2489 and dated 28 February 2008, 60% of the Participation Bank was acquired by the National Commercial Bank. The Participation Bank increased its capital from TL 292,047 to TL 800,000 with the share capital increase in As per the decision taken by the extraordinary General Assembly on 6 June 2012, the Participation Bank s share capital was increased by TL 975,000 from TL 800,000 to TL 1,775,000. The part of this increase amounting to TL 700,000 was transferred from retained earnings and the part amounting to TL 150,000 was paid in cash by shareholders on 2 October The remaining part of the cash commitment amounting to TL 125,000 was paid by shareholders and approved by the Banking Regulation and Supervision Agency on 6 February As at 30 June 2014, the shareholders are as follows; the National Commercial Bank holds 66.27%, Boydak Group holds 22.09%, Ülker Group holds 11.57% and other shareholders hold 0.07%. The Participation Bank is controlled by the National Commercial Bank. The National Commercial Bank (NCB) established as the first and the biggest bank of Saudi Arabia. The Bank is performing its banking operations through cross-border in Bahrain and Lebanon. The head quarter of the NCB is located in Jeddah. 6

10 1. Overview of the Participation Bank (continued) 1.2. Ownership (continued) As at 30 June 2014, the Participation Bank s paid-in-capital consists of 1,775,000 shares of TL 1 nominal each. As at 30 June 2014 and 31 December 2013, the composition of shareholders and their respective percentage of ownership can be summarised as follows: 30 June December 2013 Amount % Amount % The National Commercial Bank JSC 1,176, ,176, Boydak Group 392, , Gözde Girişim Sermayesi Yatırım Ortaklığı AŞ (Ülker Group) 205, , Other shareholders 1, , Total 1,775, ,775, Basis of preparation 2.1. Statement of compliance The Participation Bank located in Turkey maintains its books of account and prepare its statutory financial statements in Turkish Lira ( TL ), the functional currency of the Participation Bank, in accordance with the accounting practices as promulgated by the Banking Regulation and Supervision Agency ( BRSA ). The accompanying financial statements of the Participation Bank have been prepared in accordance with International Financial Reporting Standards (IFRSs) as issued by the International Accounting Standards Board (IASB). The Participation Bank adopted all IFRSs, which were mandatory as at 30 June The accompanying financial statements are authorised for issue by the Participation Bank s Management on 5 August Basis of measurement The accompanying financial statements are prepared in accordance with the historical cost basis as adjusted for the effects of inflation that lasted until 31 December 2005, except for the items presented on a fair value basis that are financial assets at fair value through profit or loss, derivative financial assets and liabilities held for trading purpose, available-for-sale investment securities and buildings whose fair value can reliably be measured. 7

11 2. Basis of preparation (continued) 2.3. Functional and presentation currency These financial statements are presented in TL, which is the Participation Bank s functional currency. Except as otherwise indicated, financial information presented in TL has been rounded to the nearest thousand Accounting in hyperinflationary countries Financial statements of the entities located in Turkey have been restated for the changes in the general purchasing power of the Turkish Lira based on IAS 29 Financial Reporting in Hyperinflationary Economies as at 31 December IAS 29 requires that financial statements prepared in the currency of a hyperinflationary economy be stated in terms of the measuring unit current at the reporting date, and that corresponding figures for previous years be restated in the same terms. One characteristic that necessitates the application of IAS 29 is a cumulative three-year inflation rate approaching or exceeding 100%. The cumulative three-year inflation rate in Turkey was 35.61% as at 31 December 2005, based on the Turkish nation-wide wholesale price indices announced by the Turkish Statistical Institute. This, together with the sustained positive trend in quantitative factors, such as the stabilisation in capital and money markets, decrease in profit share rates and the appreciation of TL against the US Dollar and other hard currencies have been taken into consideration to categorise Turkey as a non-hyperinflationary economy under IAS 29 effective from 1 January Use of estimates and judgments In preparing these consolidated financial statements, the Bank management has made judgements, estimates and assumptions that affect the application of the Group s accounting policies and the reported amounts of assets, liabilities, income and expenses. Actual results may differ from these estimates. Estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to estimates are recognised prospectively. (a) Assumptions and estimation uncertainties Information about judgements made in applying accounting policies that have the most significant effects on the amounts recognised in the consolidated financial statements is set out below. Information about assumptions and estimation uncertainties that have a significant risk of resulting in a material adjustment as at 30 June 2014 is set out below in relation to the impairment of financial instruments and in the following notes: Note 5 determining fair values of financial instruments; Note 12 recognition of deferred tax assets Note 23 recognition and measurement of provisions Impairment of financial instruments The individual component of the total allowance for impairment applies to financial assets evaluated individually for impairment and is based on management s best estimate of the present value of the cash flows that are expected to be received. In estimating these cash flows, management makes judgments about a debtor s financial situation and the net realisable value of any underlying collateral. Each impaired asset is assessed on its merits, and the workout strategy and estimate of cash flows considered recoverable are independently approved by the Credit Risk function. 8

12 2. Basis of preparation (continued) 2.5. Use of estimates and judgments (continued) A collective component of the total allowance is established for: groups of homogeneous loans that are not considered individually significant; and groups of assets that are individually significant but that were not found to be individually impaired (loss 'incurred but not reported' or IBNR). The collective allowance for groups of homogeneous loans is established using statistical methods such as roll rate methodology or, for small portfolios with insufficient information, a formula approach based on historical loss rate experience. The roll rate methodology uses statistical analysis of historical data on delinquency to estimate the amount of loss. Management applies judgement to ensure that the estimate of loss arrived at on the basis of historical information is appropriately adjusted to reflect the economic conditions and product mix at the reporting date. Roll rates and loss rates are regularly benchmarked against actual loss experience. The IBNR allowance covers credit losses inherent in portfolios of loans and advances, and held to maturity investment securities with similar credit risk characteristics when there is objective evidence to suggest that they contain impaired items but the individual impaired items cannot yet be identified. In assessing the need for collective loss allowance, management considers factors such as credit quality, portfolio size, concentrations and economic factors. To estimate the required allowance, assumptions are made to define how inherent losses are modelled and to determine the required input parameters, based on historical experience and current economic conditions. The accuracy of the allowance depends on the model assumptions and parameters used in determining the collective allowance Changes in accounting policies Except for the changes below, the Bank has consistently applied the accounting policies as set out in Note 3 to all periods presented in these financial statements. The Bank has adopted the following new standards and amendments to standards, including any consequential amendments to other standards, with a date of initial application of 1 January Amendments to IFRS 10, 11, IAS 27 Investment entities Amendments to IAS 32 Offsetting Financial Assets and Financial Liabilities Amendments to IAS 36 Recoverable amount Disclosures for Non-Financial Assets Amendments to IAS 39 Novation of Derivatives and Continuation of Hedge Accounting IFRIC 21 Levies 9

13 3. Significant accounting policies Except the changes disclosed in Note 2.6, the accounting policies set out below have been applied consistently to all periods presented in these financial statements. Comparative amounts in the consolidated statement of cash flows change in funds borrowed amount to TL 868,220 have been presented as gross amounts under cash flows from operating activities as proceeds from funds borrowed amount to TL 2,329,005 and repayment of funds borrowed amount to TL 1,460, Basis of consolidation (i) Non-controlling interests ( NCI ) NCI are measured at their proportionate share of the acquiree s identifiable net assets at the acquisition date. Changes in the Group s interest in a subsidiary that do not result in a loss of control are accounted for as equity transactions. Subsidiaries are investees controlled by the Group. The Group controls an investee if it is exposed to, or has rights to, variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee. The financial statements of subsidiaries are included in the consolidated financial statements from the date on which control commences until the date when control ceases. (ii) Subsidiaries Subsidiaries are investees controlled by the Group. The Group controls an investee if it is exposed to, or has rights to, variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee. The financial statements of subsidiaries are included in the consolidated financial statements from the date on which control commences until the date when control ceases. The subsidiary is presented in Note 28. (iii) Loss of control When the Group loses control over a subsidiary, it derecognises the assets and liabilities of the subsidiary, and any related NCI and other components of equity. Any resulting gain or loss is recognised in profit or loss. Any interest retained in the former subsidiary is measured at fair value when control is lost. (iv) Transactions eliminated on consolidation Intra-group balances and transactions, and any unrealised income and expenses (except for foreign currency transaction gains or losses) arising from intra-group transactions, are eliminated in preparing the consolidated financial statements. Unrealised losses are eliminated in the same way as unrealised gains, but only to the extent that there is no evidence of impairment. 10

14 3. Significant accounting policies (continued) 3.1. Foreign currency transactions Transactions in foreign currencies are translated to the respective functional currency, TL, of the Participation Bank at exchange rates on the dates of the transactions. Monetary assets and liabilities denominated in foreign currencies on the reporting date are retranslated to the functional currency at the exchange rate on that date. Foreign currency differences arising on retranslation are recognised in profit or loss and other comprehensive income. Non-monetary assets and liabilities that are measured in terms of historical cost in a foreign currency are translated using the exchange rate at the date of the transaction. The official TL exchange rates used by the Participation Bank for foreign currency translation are as follows: EUR / TL USD / TL 30 June December Profit share Profit share income and expense are recognised in profit or loss using the effective rate method, except for the profit share income on overdue loans. The effective rate is the rate that exactly discounts the estimated future cash payments and receipts through the expected life of the financial asset or liability (or, where appropriate, a shorter period) to the carrying amount of the financial asset or liability. When calculating the effective rate, the Participation Bank estimates future cash flows considering all contractual terms of the financial instrument but not future credit losses. The calculation of the effective rate includes all fees and points paid or received transaction costs, and discounts or premiums that are an integral part of the effective rate. Transaction costs are incremental costs that are directly attributable to the acquisition, issue or disposal of financial assets or liabilities. Profit share income and expense presented in the profit or loss and other comprehensive income include: profit share on financial assets and liabilities at amortised cost on an effective rate basis, profit share on available-for-sale investment securities on an effective rate basis, 3.3. Fees and commission Fees and commission income and expenses that are integral to the effective rate on a financial asset or liability are included in the measurement of the effective rate. Other fees and commission income, including account servicing fees, investment management fees, sales commission, placement fees and syndication fees are recognised as the related services are provided. When a loan commitment is not expected to result in the draw-down of a loan, loan commitment fees are recognised on a straight-line basis over the commitment period. Other fees and commission expense relate mainly to transaction and service fees, which are expensed as the services are received. 11

15 3. Significant accounting policies (continued) 3.4. Net trading income Net trading income comprises gains less loss related to trading assets and liabilities, and includes all realised and unrealised fair value changes, except for the unrealised gains of available for sale securities Dividends Dividend income is recognised when the right to receive the income is established Lease payments made Payments made under operating leases are recognised in profit or loss on a straight-line basis over the term of the lease. Lease incentives received are recognised as an integral part of the total lease expense, over the term of the lease. Minimum lease payments made under finance leases are apportioned between the finance expense and the reduction of the outstanding liability. The finance expense is allocated to each period during the lease term so as to produce a constant periodic rate of profit share on the remaining balance of the liability Income tax expense Income tax expense comprises current and deferred tax. Current tax and deferred tax are recognised in profit or loss except to the extent that they relate to items recognised directly in equity or in profit or loss and other comprehensive income. Current tax is the expected tax payable or receivable on the taxable income for the year, using tax rates enacted or substantively enacted on the balance sheet date, and any adjustment to tax payable in respect of prior years. Deferred tax is recognised in respect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for taxation purposes. Deferred tax is not recognised for the following temporary differences: the initial recognition of assets or liabilities in a transaction that is not a business combination and that affects neither accounting nor taxable profit. Deferred tax is measured at the tax rates that are expected to be applied to the temporary differences when they reverse, based on the laws that have been enacted or substantively enacted by the reporting date. Deferred tax assets and liabilities are offset if there is a legally enforceable right to offset current tax liabilities against current tax assets, and they relate to income taxes levied by the same tax authority on the same taxable entity, or on different tax entities, but they intend to settle current tax liabilities and assets on a net basis or their tax assets and liabilities will be realised simultaneously. A deferred tax asset is recognised for unused tax losses, tax credits and deductible temporary differences to the extent that it is probable that future taxable profits will be available against which they can be utilised. Deferred tax assets are reviewed at each reporting date and are reduced to the extent that it is no longer probable that the related tax benefit will be realised. 12

16 3. Significant accounting policies (continued) 3.8. Financial assets and liabilities Recognition The Participation Bank initially recognises loans, lease receivables and advances, deposits and funds borrowed on the date that they are originated. Regular way purchases and sales of financial assets are recognised on the trade date on which the Participation Bank commits to purchase or sell the asset. All other financial assets and liabilities (including assets and liabilities designated at fair value profit or loss) are initially recognised on the trade date at which the Participation Bank becomes a party to the contractual provisions of the instrument. Classification See accounting policies 3.9, 3.10, 3.11, 3.12 and Derecognition The Participation Bank derecognises a financial asset when the contractual rights to the cash flows from the asset expire, or when it transfers the financial asset in a transaction in which substantially all the risks and rewards of ownership of the financial asset are transferred or in which the Participation Bank neither transfers nor retains substantially all the risks and rewards of ownership and it does not retain control of the financial asset. Any profit share in transferred financial assets that is created or retained by the Participation Bank is recognised as a separate asset or liability. On derecognition of a financial asset (or the carrying amount allocated to the portion of the asset transferred), and the sum of the consideration received (including the new asset obtained less any new liability assumed) and any cumulative gain or loss that had been recognised in other comprehensive income is recognised in profit or loss. The Participation Bank derecognises a financial liability when its contractual obligations are discharged or cancelled or expire. Available-for-sale assets and financial assets at fair value through profit or loss that are sold are derecognised and corresponding receivables from the buyer for the payment are recognised as at the date the Participation Bank commits to sell the assets. The specific identification method is used to determine the gain or loss on derecognition. Offsetting Financial assets and liabilities are set off and the net amount presented in the statement of financial position when, and only when, the Participation Bank has a legal right to set off the recognised amounts and it intends either to settle on a net basis or to realise the asset and settle the liability simultaneously. Income and expenses are presented on a net basis only when permitted by the accounting standards, or for gains and losses arising from a group of similar transactions such as in the Participation Bank s trading activity. Amortised cost measurement The amortised cost of a financial asset or liability is the amount at which the financial asset or liability is measured at initial recognition, minus principal repayments, plus or minus the cumulative amortisation using the effective rate method of any difference between the initial amount recognised and the maturity amount, minus any reduction for impairment. 13

17 3. Significant accounting policies (continued) 3.8. Financial assets and liabilities (continued) Fair value measurement Fair value is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm s length transaction on the measurement date. When available, the Participation Bank measures the fair value of an instrument using quoted prices in an active market for that instrument. A market is regarded as active if quoted prices are readily and regularly available and represent actual and regularly occurring market transactions on an arm s length basis. If a market for a financial instrument is not active, the Participation Bank establishes fair value using a valuation technique. Valuation techniques include using recent arm s length transactions between knowledgeable, willing parties (if available), reference to the current fair value of other instruments that are substantially the same and discounted cash flow analyses. The chosen valuation technique makes maximum use of market inputs, relies as little as possible on estimates specific to the Participation Bank, incorporates all factors that market participants would consider in setting a price, and is consistent with accepted economic methodologies for pricing financial instruments. Inputs to valuation techniques reasonably represent market expectations and measures of the riskreturn factors inherent in the financial instrument. The Participation Bank calibrates valuation techniques and tests them for validity using prices from observable current market transactions in the same instrument or based on other available observable market data. Identification and measurement of impairment At each reporting date, the Participation Bank assesses whether there is objective evidence that financial assets not carried at fair value through profit or loss are impaired. Financial assets are impaired when objective evidence demonstrates that a loss event has occurred after the initial recognition of the asset, and that the loss event has an impact on the future cash flows on the asset that can be estimated reliably. Loans and receivables are presented net of specific and portfolio basis allowances for uncollectibility. Specific allowances are made against the carrying amount of loans and receivables that are identified as being impaired based on regular reviews of outstanding balances to reduce these loans and receivable to their recoverable amounts. In assessing the recoverable amounts of the loans and receivables, the estimated future cash flows are discounted to their present value. Portfolio basis allowances are maintained to reduce the carrying amount of portfolios of similar loans and receivables to their estimated recoverable amounts at the reporting date. In order to determine allowance rate for portfolio basis, the Participation Bank uses historical allowance rates based on its own statistical data. Objective evidence that financial assets are impaired includes observable data that comes to the attention of the Participation Bank about the following loss events: significant financial difficulty of the issuer or obligor; a breach of contract, such as a default or delinquency in profit share, penalty or principal payments; the Participation Bank granting to the borrower, for economic or legal reasons relating to the borrower s financial difficulty, a concession that the lender would not otherwise consider; it becomes probable that the borrower will enter bankruptcy or other financial reorganisation; the disappearance of an active market for that financial asset because of financial difficulties; or 14

18 3. Significant accounting policies (continued) 3.8. Financial assets and liabilities (continued) Identification and measurement of impairment (continued) observable data indicating that there is a measurable decrease in the estimated future cash flows from a group of financial assets since the initial recognition of those assets, although the decrease cannot yet be identified with the individual financial assets in the Participation Bank, including: adverse changes in the payment status of borrowers; or national or local economic conditions that correlate with defaults on the assets in the Participation Bank. Impairment losses on assets carried at amortised cost are measured as the difference between the carrying amount of the financial assets and the present value of estimated cash flows discounted at the assets original effective rate. Losses are recognised in profit or loss and reflected in an allowance account against loans and advances. Profit share on the impaired asset continues to be recognised through the unwinding of the discount. When a subsequent event causes the amount of impairment loss to decrease, the impairment loss is reversed through profit or loss. Impairment losses on available-for-sale investment securities are recognised by transferring the cumulative loss that has been recognised in other comprehensive income to profit or loss as a reclassification adjustment. The cumulative loss that is reclassified from other comprehensive income to profit or loss is the difference between the acquisition cost, net of any principal repayment and amortisation, and the current fair value, less any impairment loss previously recognised in profit or loss. Changes in impairment provisions attributable to time value are reflected as a component of profit share income. If, in a subsequent period, the fair value of an impaired available-for-sale debt security increases and the increase can be objectively related to an event occurring after the impairment loss was recognised in profit or loss, the impairment loss is reversed, with the amount of the reversal recognised in profit or loss. However, any subsequent recovery in the fair value of an impaired available-for-sale equity security is recognised directly in other comprehensive income. The Participation Bank writes off certain loans and advances when they are determined to be uncollectible. Designation at fair value through profit or loss Financial assets at fair value through profit or loss are trading financial assets, such as equity participations, acquired principally with the intention of disposal within a short period for the purpose of short-term profit making. These assets or liabilities are managed, evaluated and reported internally on a fair value basis. 15

19 3. Significant accounting policies (continued) 3.9. Cash and cash equivalents Cash and cash equivalents include cash on hand, unrestricted balances held with Central Bank, cash on transit and loans and advances to banks. Cash and cash equivalents are carried at amortised cost in the statement of financial position Fair value through profit or loss The Participation Bank designates some financial assets at fair value, with fair value changes recognised immediately in profit or loss and other comprehensive income statement as described in accounting policy Loans, lease receivables and advances Loans, lease receivables and advances are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market and that the Participation Bank does not intend to sell immediately or in the near term. When the Participation Bank is the lessor in a lease agreement that transfers substantially all of the risks and rewards incidental to ownership of the asset to the lessee, the arrangement is classified as a finance lease and a receivable equal to the net investment in the lease is recognised and presented within loans, lease receivables and advances. Loans, lease receivables and advances are initially measured at fair value plus incremental direct transaction costs, and subsequently measured at their amortised cost using the effective rate method Available-for-sale investment securities Available-for-sale investments, which are initially measured at fair value plus incremental direct transaction costs, are non-derivative investments that are designated as available-for-sale or are not classified as another category of financial assets. All available-for-sale investments are carried at fair value. Profit share income is recognised in profit or loss using the effective interest method. Dividend income is recognised in profit or loss when the Bank becomes entitled to the dividend. Foreign exchange gains or losses on available-for-sale debt security investments are recognised in profit or loss. Impairment losses are recognised in profit or loss. Other fair value changes, other than impairment losses, are recognised in other comprehensive income and presented in the fair value reserve within equity. When the investment is sold, the gain or loss accumulated in equity is reclassified to profit or loss. A non-derivative financial asset may be reclassified from the available-for-sale category to the loans and receivables category if it otherwise would have met the definition of loans and receivables and if the Participation Bank has the intention and ability to hold that financial asset for the foreseeable future or until maturity. 16

20 3. Significant accounting policies (continued) Trading assets and liabilities Trading assets and liabilities are those assets and liabilities that the Group acquires or incurs principally for the purpose of selling or repurchasing in the near term, or holds as part of a portfolio that is managed together for short-term profit or position taking. Trading assets and liabilities are initially recognised and subsequently measured at fair value in the statement of financial position, with transaction costs recognised in profit or loss. All changes in fair value are recognised as part of net trading income in profit or loss. Trading assets and liabilities are not reclassified subsequent to their initial recognition, except that non-derivative trading assets, other than those designated at fair value through profit or loss on initial recognition, may be reclassified out of the fair value through profit or loss i.e. trading category if they are no longer held for the purpose of being sold or repurchased in the near term and the following conditions are met. If the financial asset would have met the definition of loans and receivables (if the financial asset had not been required to be classified as held-for-trading at initial recognition), then it may be reclassified if the Group has the intention and ability to hold the financial asset for the foreseeable future or until maturity. If the financial asset would not have met the definition of loans and receivables, then it may be reclassified out of the trading category only in rare circumstances Property and equipment Recognition and measurement Items of property and equipment are measured at cost less accumulated depreciation and impairment losses except for buildings owned which are measured at fair value. Change in fair value is reflected into revaluation reserve account in other comprehensive income. Cost includes expenditures that are directly attributable to the acquisition of the asset. The gain or loss on disposal of an item of property and equipment is determined by comparing the proceeds from disposal with the carrying amount of the item of property and equipment, and are recognised net within the other operating income or other operating expense in profit or loss. Subsequent costs The cost of replacing a part of an item of property or equipment is recognised in the carrying amount of the item if it is probable that the future economic benefits embodied within the part will flow to the Participation Bank and its cost can be measured reliably. The carrying amount of the replaced part is derecognised. The costs of the day-to-day servicing of property and equipment are recognised in profit or loss as incurred. 17

21 3. Significant accounting policies (continued) Property and equipment (continued) Depreciation Depreciation is recognised in profit or loss on a straight-line basis over the estimated useful lives of each part of an item of property and equipment since this most closely reflects the expected pattern of consumption of the future economic benefits embodied in the asset. Leased assets under finance leases are depreciated over the shorter of the lease term and their useful lives. Land is not depreciated. The estimated useful lives for the current and comparative periods are as follows: Buildings 50 years Office equipment, furniture and fixtures 2-15 years Motor vehicles 5 years Leasehold improvements are amortised over the shorter of periods of the respective leases and their useful lives, also on a straight-line basis. Depreciation methods, useful lives and residual values are reassessed at the each financial period-ended and adjusted if appropriate Intangible assets Software acquired by the Participation Bank is stated at cost less accumulated amortisation and accumulated impairment losses. Subsequent expenditure on software assets is capitalised only when it increases the future economic benefits embodied in the specific asset to which it relates. All other expenditure is expensed as incurred. Amortisation is recognised in profit or loss on a straight-line basis over the estimated useful life of the software, from the date that it is available for use since this most closely reflects the expected pattern of consumption of the future economic benefits embodied in the asset. The estimated useful life of software is three to five years. Amortisation methods, useful lives and residual values are reassessed at the each financial period-ended and adjusted if appropriate. 18

22 3. Significant accounting policies (continued) Leased assets lessee Leases in terms of which the Participation Bank assumes substantially all the risks and rewards of ownership are classified as finance leases. Upon initial recognition the leased asset is measured at an amount equal to the lower of its fair value and the present value of the minimum lease payments. Subsequent to initial recognition, the asset is accounted for in accordance with the accounting policy applicable to that asset. Other leases are operating leases and, the leased assets are not recognised on the Participation Bank s statement of financial position Impairment of non-financial assets The carrying amounts of the Participation Bank s non-financial assets, other than deferred tax assets, are reviewed at each reporting date to determine whether there is any indication of impairment. If any such indication exists then the asset s recoverable amount is estimated. An impairment loss is recognised if the carrying amount of an asset or its cash-generating unit exceeds its recoverable amount. A cash-generating unit is the smallest identifiable asset group that generates cash flows that largely are independent from other assets and groups. Impairment losses are recognised in profit or loss. Impairment losses recognised in respect of cash-generating units are allocated first to reduce the carrying amount of any goodwill allocated to the units and then to reduce the carrying amount of the other assets in the unit (group of units) on a pro rata basis. The recoverable amount of an asset or cash-generating unit is the greater of its value in use and its fair value less costs to sell. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset. An impairment loss in respect of other assets, impairment losses recognised in prior periods is assessed at each reporting date for any indications that the loss has decreased or no longer exists. An impairment loss is reversed if there has been a change in the estimates used to determine the recoverable amount. An impairment loss is reversed only to the extent that the asset s carrying amount does not exceed the carrying amount that would have been determined, net of depreciation or amortisation, if no impairment loss had been recognised Deposits, debt securities issued, funds borrowed Deposits are the Participation Bank s main source of debt funding. Deposits of the Participation Bank comprised of the customers current and profit sharing accounts. Customers current and profit sharing accounts are initially recognised at cost. Subsequent to the initial recognition, all profit share accounts are recognised considering the attribute profits or any losses incurred on the respective loan balances. In all cases, profit/loss sharing accounts receive a proportion of the profit or bear a share of loss based on the results of the respective loan balances. Debt securities issued and funds borrowed are initially measured at fair value minus incremental direct transaction costs, and subsequently measured at their amortised cost using the effective interest method, except where the Group designates liabilities at fair value through profit or loss. 19

23 3. Significant accounting policies (continued) Provisions A provision is recognised if, as a result of a past event, the Participation Bank has a present legal or constructive obligation that can be estimated reliably, and it is probable that an outflow of economic benefits will be required to settle the obligation. Provisions are determined by discounting the expected future cash flows at a pre-tax rate that reflects current market assessments of the time value of money and, where appropriate, the risks specific to the liability. A provision for restructuring is recognised when the Participation Bank has approved a detailed and formal restructuring plan, and the restructuring either has commenced or has been announced publicly. Future operating costs are not provided for. A provision for onerous contracts is recognised when the expected benefits to be derived by the Participation Bank from a contract are lower than the unavoidable cost of meeting its obligations under the contract. The provision is measured at the present value of the lower of the expected cost of terminating the contract and the expected net cost of continuing with the contract. Before a provision is established, the Participation Bank recognises any impairment loss on the assets associated with that contract Employee benefits Reserve for employee severance indemnity Reserve for employee severance indemnity represents the present value of the estimated future probable obligation of the Participation Bank arising from the retirement of the employees and calculated in accordance with the Turkish Labour Law. Employment termination benefit is not a funded liability and there is no requirement to fund it. Employment termination benefit is calculated based on the estimation of the present value of the employee s probable future liability arising from the retirement. IAS 19 ( Employee Benefits ) requires actuarial valuation methods to be developed to estimate the bank s obligation under defined employee plans. IAS 19 ( Employee Benefits ) has been revised effective from the annual period beginning after 1 January In accordance with the revised standard, actuarial gain / loss related to employee benefits shall be recognised in other comprehensive income. Short-term employee benefits Short-term employee benefit obligations are measured on an undiscounted basis and are expensed as the related service is provided. A liability is recognised for the amount expected to be paid under short-term cash bonus if the Participation Bank has a present legal or constructive obligation to pay this amount as a result of past service provided by the employee and the obligation can be estimated reliably. The Participation Bank does not have any internally set defined contribution plan Segment reporting An operating segment is a component of the Participation Bank that engages in business activities from which it may earn revenues and incur expenses, including revenues and expenses that relate to transactions with any of the Participation Bank s other components, whose operating results are reviewed regularly by the Participation Bank s Management Committee (being chief operating decision maker) to make decisions about resources allocated to each segment and assess its performance, and for which discrete financial information is available. Segment results that are reported to the Board of Directors include items directly attributable to that segment as well as those that can be allocated on a reasonable basis. 20

24 3. Significant accounting policies (continued) Events after the reporting period Events after the reporting period that provide additional information about the Participation Bank s position at the reporting dates (adjusting events) are reflected in the financial statements. Events after the reporting period that are not adjusting events are disclosed in the notes when material New and revised IFRSs in issue but not yet effective IFRS 9 Financial Instruments Amendments to IFRS 9 and IFRS 7 Mandatory effective date of IFRS 9 and Transition Disclosures Amendments to IAS 19 Defined Benefit Plans: Employee Contributions Annual Improvements to Cycle-IFRS 2, IFRS 3, IFRS 8, IFRS 13, IAS 16, IAS 38 and IAS 24 Annual Improvements to Cycle-IFRS 1, IFRS 3, IFRS 13, IAS 40 IFRS 14 Regulatory Deferral Accounts Amendments to IFRS 11 Accounting for Acquisition of Interests in Joint Operations Amendments to IAS 16 and IAS 38 Clarification of Acceptable Methods of Depreciation and Amortisation IFRS 15 Revenue from Contracts with Customers 21

25 4. Financial risk management Introduction and overview The Participation Bank has exposure to the following risks from its use of financial instruments: credit risk liquidity risk market risks operational risks This note presents information about the Participation Bank s exposure to each of the above risks, the Participation Bank s objectives, policies and processes for measuring and managing risk, and the Participation Bank s management of capital. Risk management framework The Board of Directors has overall responsibility for the establishment and oversight of the Participation Bank s risk management framework. The Board has established the Participation Bank s Asset and Liability ( ALCO ) committee, Credit committee and Risk Management Department, which are responsible for monitoring the Participation Bank risk management policies in their specified areas. All Board committees have both executive and non-executive members and report regularly to the Board of Directors on their activities. The Participation Bank s risk management policies are established to identify and analyse the risks faced by the Participation Bank, to set appropriate risk limits and controls, and to monitor risks and adherence to limits. Risk management policies and systems are reviewed regularly to reflect changes in market conditions, products and services offered. The Participation Bank, through its training and management standards and procedures, aims to develop a disciplined and constructive control environment, in which all employees understand their roles and obligations. The Participation Bank s Audit Committee is responsible for monitoring compliance with the Participation Bank s risk management policies and procedures, and for reviewing the adequacy of the risk management framework in relation to the risks faced by the Participation Bank s. The Participation Bank s Audit Committee is assisted in these functions by Internal Audit. Internal Audit undertakes both regular and ad-hoc reviews of risk management controls and procedures, the results of which are reported to the Participation Bank s Audit Committee. 22

26 4. Financial risk management (continued) Credit risk Credit risk is defined as the current or prospective threat to the Participation Bank's earnings and capital as a result of counterparty s failure to comply with a financial or other contractual obligation in respect of the institution, including the possibility of restrictions on or impediments to the transfer of payments from abroad and arises principally from the Participation Bank s loans and advances to customers and other banks and investment securities. For risk management reporting purposes, the Participation Bank considers and consolidates all elements of credit risk exposure (such as individual obligor default risk, country and sector risk). Management of credit risk For credit risk management purposes the Risk Management Department is involved in the determination of credit risk policies in coordination with the Participation Bank s other units, the determination and monitoring of the distribution of concentration limits with respect to sector, geography and credit type, contribution to the formation of rating and scoring systems, submitting to the Board of Directors and the senior management not only credit risk management reports about the credit portfolio s distribution (borrower, sector, geographical region), credit quality (impaired loans, credit risk ratings) and credit concentration, but also scenario analysis reports, stress tests and other analyses, and studies regarding the formation of advanced credit risk measurement approaches. Regular audits of business units and Participation Bank s credit processes are undertaken by internal audit. 23

27 4. Financial risk management (continued) Credit risk (continued) Exposure to credit risk Note 30 June December 2013 Loans, lease Loans, lease receivables and receivables and advances to advances to customers customers Carrying amount 15 20,269,967 18,200,352 Assets at amortised cost Individually impaired Grade 3: Impaired 58,866 36,947 Grade 4: Impaired 86, ,627 Grade 5: Impaired 384, ,498 Gross amount , ,072 Allowance for impairment 15 (385,967) (312,789) Carrying amount 143, ,283 Neither past due nor individually impaired Grade 1: Low-fair risk 18,757,913 17,328,224 Past due but not individually impaired Grade 2: Watch List 1,464, ,135 Past due comprises: 1-30 days 872, , days 240, , days 350, ,283 Gross amount for collective impairment 20,221,950 18,172,359 Allowance for collective impairment 15 (95,885) (100,290) Carrying amount 20,126,065 18,072,069 Total carrying amount-amortised cost 20,269,967 18,200,352 Includes accounts with renegotiated terms 18,589 29,761 As at 30 June 2014 and 31 December 2013, the Participation Bank has not any allowance for loans and advances to banks and available-for-sale investment securities. Impaired loans, lease receivables and advances Impaired loans, lease receivables and advances are loans, lease receivables and advances for which the Participation Bank determines that it is probable that it will be unable to collect all principal and profit share due according to the contractual terms of the loan or leasing agreement. These loans, lease receivables and advances are graded 3 to 5 in the Participation Bank s internal credit risk grading system which is also in line with the regulations of BRSA. 24

28 4. Financial risk management (continued) Credit risk (continued) Past due but not impaired loans, lease receivables and advances Past due but not impaired loans are those for which contractual profit share or principal payments are past due but the Participation Bank believes that impairment is not appropriate on the basis of the level of security / collateral available and / or the stage of collection of amounts owed to the Participation Bank. Loans and lease receivables with renegotiated terms Loans and lease receivables with renegotiated terms are loans and lease receivables that have been restructured due to temporary deterioration in the borrower s financial position and where the Participation Bank has made concessions that it would not otherwise consider. Allowances for impairment The Participation Bank establishes an allowance for impairment losses that represents its estimate of incurred losses in its loan portfolio. The main components of this allowance are a specific loss component that relates to individually significant exposures, and a collective loan loss allowance established for groups of homogeneous assets in respect of losses that have been incurred but have not been identified on loans subject to individual assessment for impairment. Write-off policy The Participation Bank writes off a loan balance (and any related allowances for impairment losses) when it is concluded that the loans are uncollectible after all the necessary legal procedures have been completed, and the final loss has been determined. This conclusion is reached after considering information such as the occurrence of significant changes in the borrower/issuer s financial position such that the borrower/issuer can no longer pay the obligation, or that proceeds from collateral will not be sufficient to pay back the entire exposure. Set out below is an analysis of the gross and net (of allowances for impairment) amounts of individually impaired assets by risk grade. Loans, lease receivables and advances to customers 30 June December 2013 Gross Net Gross Net Grade 3 58,866 42,513 36,947 18,827 Grade 4 86,238 45, ,627 44,548 Grade 5 384,765 55, ,498 64,908 Total 529, , , ,283 Collateral policy The Participation Bank holds collateral against loans, lease receivables and advances to customers in the form of mortgage profit shares over property, other registered securities over assets, and guarantees. Estimates of fair value are based on the value of collateral assessed at the time of borrowing, and generally are not updated except when a loan is individually assessed as impaired. Collateral generally is not held over loans and advances to banks and available-for-sale investment securities, and no such collateral was held at 30 June 2014 and 31 December

29 4. Financial risk management (continued) Credit risk (continued) Collateral policy (continued) The breakdown of performing loans, lease receivables and advances to customers by type of collateral are as follows: Loans, lease receivables and advances to customers 30 June December 2013 Secured loans: Secured by mortgages 10,207,580 9,012,717 Secured by promissory notes 5,061,348 4,115,253 Secured by pledge on assets 1,102,825 1,012,014 Secured by cash collateral 702, ,741 Other collateral 13,387 11,253 Unsecured loans 3,134,562 3,327,381 Total performing loans, lease receivables and advances to customers 20,221,950 18,172,359 Sectorial analysis The Participation Bank monitors concentrations of credit risk by sector and by geographic location. An analysis of concentrations of credit risk at the reporting date is shown below: Sector 30 June December 2013 Carrying Carrying amount % amount % Trade and commerce 5,884, ,077, Manufacturing 4,972, ,612, Retail 3,545, ,373, Construction 2,599, ,141, Services 1,049, ,028 5 Electricity, water, gas and health services 582, ,586 3 Transportation and communication 461, ,483 2 Agriculture and fishing 343, ,797 2 Financial institutions 39,223-41,932 - Other 791, ,065 4 Total 20,269, ,200,

30 4. Financial risk management (continued) Credit risk (continued) Sectorial analysis (continued) Geographical concentration Note 30 June December 2013 Turkey 20,327,164 18,872,131 European Union countries 103,232 62,802 USA, Canada 82,041 46,472 Off-shore banking regions 7,138 6,304 OECD countries 6,784 5,058 Other countries 107, ,795 Total performing loans, lease receivables and advances to banks and customers 14, 15 20,633,372 19,126,562 Credit rating system The credit risk is assessed through the internal rating system of the Participation Bank. Credits listed from the best ratings (high) to the lowest degrees (below standard) presented below; also in the bottom of the table, nonperforming loans (impaired loans) is presented. Current period Historical default rates % (2) Total (1) High 0.49% 18,124,098 Standard 1.35% 6,997,211 Below standard 16.09% 52,403 Non-performing loans - 529,869 Not graded 4.17% 4,484,526 Total 30,188,107 (1) The amounts comprise of loans, leasing receivables and commitments and contingencies. (2) Default ratios are the rate of non-performing loans (impaired loans) in 2014 to loans given in The category High means that the borrower has a strong financial structure; the category Standard means that the borrower has a good and sufficient financial structure, and the category Below Standard means that the borrower s financial structure is under risk in the medium and short term. 27

31 4. Financial risk management (continued) Offsetting financial assets and financial liabilities The disclosures set out in the tables below include financial assets and financial liabilities that: are offset in the Group s statement of financial position; or are subject to an enforceable master netting arrangement or similar agreement that covers similar financial instruments, irrespective of whether they are offset in the statement of financial position. The similar agreements include derivative clearing agreements. Similar financial instruments include derivatives. Financial instruments such as loans and deposits are not disclosed in the tables below unless they are offset in the statement of financial position. Such collateral is subject to each agreement terms. The terms also give each party the right to terminate the related transactions on the counterparty s failure to post collateral. The Group receives and gives collateral in the form of cash in respect of the derivative transactions. Financial assets and liabilities subject to offsetting, enforceable master netting arrangements and similar agreements Types of financial assets Gross amounts of recognised financial assets Gross amounts of recognised financial liabilities offset in the statement of financial position Net amounts of financial assets presented in the statement of financial position Related amounts not offset in the statement of financial position Financial instruments (including non-cash collateral) Cash collateral received Net amount 30 June 2014 Derivatives - trading assets 12,397-12,397-12, December 2013 Derivatives - trading assets 42,998-42,998-42,998 - Types of financial liabilities Gross amounts of recognised financial assets Gross amounts of recognised financial liabilities offset in the statement of financial position Net amounts of financial assets presented in the statement of financial position Related amounts not offset in the statement of financial position Financial instruments (including non-cash collateral) Cash collateral received Net amount 30 June December 2013 Derivatives - trading liabilities 5,311-5,311-5,311 - Derivatives - trading liabilities 25,159-25,159-25,159-28

32 4. Financial risk management (continued) Liquidity risk Liquidity risk is the risk that the Participation Bank will encounter difficulty in meeting obligations from its financial liabilities. Management of liquidity risk The Participation Bank s approach to managing liquidity is to ensure, as far as possible, that it will always have sufficient liquidity to meet its liabilities when due, under both normal and stressed conditions, without incurring unacceptable losses or risking damage to the Participation Bank s reputation. The Treasury Department of the Participation Bank receives information from other business departments regarding the liquidity profile of their financial assets and liabilities and details of other projected cash flows arising from projected future business. The Treasury Department then maintains a portfolio of short-term liquid assets, largely made up of loans and advances to domestic and foreign banks and other inter-bank facilities, to ensure that sufficient liquidity is maintained within the Participation Bank as a whole. The liquidity requirements of business departments are met through short-term loans from the Treasury Department to cover any short-term fluctuations and longer-term funding to address any structural liquidity requirements. The daily liquidity position is monitored and regular liquidity stress testing is conducted under a variety of scenarios covering both normal and more severe market conditions. All liquidity policies and procedures are subject to review and approval by ALCO. Daily reports cover the liquidity position of both the Participation Bank. A summary report, including any exceptions and remedial action taken, is submitted regularly to ALCO. The Participation Bank heavily relies on deposits from customers and banks as its primary sources of funding. Deposits from customers and banks generally have shorter maturities and a significant proportion of them are repayable on demand. The short-term nature of these deposits increases the Participation Bank s liquidity risk and the Participation Bank actively manages this risk through maintaining competitive pricing and constant monitoring of market trends. Exposure to liquidity risk The calculation method used to measure the Participation Bank s compliance with the liquidity limit is set by BRSA. As per the BRSA Communiqué, Measurement and Assessment of the Adequacy of Banks Liquidity, the weekly and monthly liquidity ratios on a bank-only basis for foreign currency assets/liabilities and total assets/liabilities should be minimum 80% and 100%, respectively. The liquidity ratios of the year 2014 are as follows: 2014 First maturity bracket (Weekly) Second maturity bracket (Monthly) FC FC+TL FC FC+TL Average (%) Maximum (%) Minimum (%)

33 4. Financial risk management (continued) Liquidity risk (continued) Exposure to liquidity risk (continued) Maturity analysis of monetary assets and liabilities according to their remaining maturities: 30 June 2014 Demand Less than one month 1-3 months 3-12 months 1-5 years Over 5 years Unallocated Total Cash and balances with Central Bank 3,028, ,028,991 Loans and advances to banks 411, ,422 Loans, lease receivables and advances to customers - 2,354,371 3,367,030 7,726,788 6,232, ,102 48,017 20,269,967 Available-for-sale investment securities 4, , , , ,610,787 Other assets (1) 3,705, ,765 3,768,440 Total assets 7,150,461 2,355,249 3,388,484 8,495,171 7,048, , ,782 29,089,607 Deposits from banks 16, , , ,551 Deposits from customers 3,322,228 8,935,633 3,500,030 1,023,866 20, ,802,365 Funds borrowed - 831, ,318 2,889, , ,227,153 Debt securities issued - 101,636-17,681 2,651, ,771,173 Current tax liabilities , ,382 Other liabilities 1,546, ,267 28,183 2,561 1, ,694,047 Total liabilities 4,885,579 10,247,656 4,324,076 3,933,877 3,591, ,982,671 Net 2,264,882 (7,892,407) (935,592) 4,561,294 3,456, , ,782 2,106, December 2013 Demand Less than one month 1-3 months 3-12 months 1-5 years Over 5 years Unallocated Total Cash and balances with Central Bank 924, ,398 Loans and advances to banks 954, ,203 Loans, lease receivables and advances to customers - 2,213,647 2,848,798 6,726,222 5,855, ,561 27,993 18,200,352 Available-for-sale investment securities 4, ,745 1,012, ,413,025 Other assets (1) 3,180, ,514 3,227,187 Total assets 5,063,650 2,213,647 2,848,798 7,121,967 6,868, ,561 74,507 24,719,165 Deposits from banks 12, ,053 1, ,617 Deposits from customers 3,428,303 8,212,957 1,871,688 1,214,126 91, ,818,621 Funds borrowed - 942, ,607 1,398,207 1,928, ,813,322 Debt securities issued ,096 1,067, ,074,246 Current tax liabilities , ,043 Other liabilities 1,093,134 98,627 18,077 3, ,213,312 Total liabilities 4,533,503 9,590,842 2,448,913 2,622,903 3,087, ,283,161 Net 530,147 (7,377,195) 399,885 4,499,064 3,781, ,561 74,507 2,436,004 (1) Reserve deposits at Central Bank of Turkey amounting to TL 3,253,508 (31 December 2013: TL 2,906,724) are presented under Demand column. 30

34 4. Financial risk management (continued) Liquidity risk (continued) Residual contractual maturities of the financial liabilities 30 June 2014 Carrying amount Gross nominal outflow Demand Less than one month 1-3 months 3-12 months 1-5 years Over 5 years Deposits from banks 460, ,551 16, , , Deposits from customers 16,802,365 16,802,365 3,322,228 8,935,633 3,500,030 1,023,866 20, Fund borrowed 5,227,153 5,400, , ,133 2,973, ,021 - Debt securities issued 2,771,173 3,372, , ,351 3,139,836 - Total 25,261,242 26,036,129 3,338,597 10,133,225 4,290,326 4,128,516 4,145, Non-cash loans (1) 9,436,288 9,436,288 2,816,866 1,376, ,253 2,949,375 1,419, ,675 (1) Commitments balance amount to TL 2,906,370 is not included in this table. 31 December 2013 Carrying amount Gross nominal outflow Demand Less than one month 1-3 months 3-12 months 1-5 years Over 5 years Deposits from banks 350, ,617 12, ,053 1, Deposits from customers 14,818,621 14,818,621 3,428,341 8,212,919 1,871,688 1,214,126 91,547 - Funds borrowed 4,813,322 4,799, , ,962 1,423,748 1,867,808 - Debt securities issued 1,074,246 1,256, ,152 1,214,683 Total 21,056,806 21,225,739 3,440,407 9,493,120 2,438,148 2,680,026 3,174,038 - Non-cash loans (1) 8,904,139 8,904,139 2,706,414 1,190, ,461 1,345,119 2,654, ,697 (1) Commitments balance amount to TL 1,870,092 is not included in this table. The above table shows the undiscounted cash flows of the Participation Bank s financial liabilities on the basis of their earliest possible contractual maturity. Customers current and profit sharing accounts are initially recognised at cost. Subsequent to the initial recognition, all profit share accounts are recognised considering the attribute profits or any losses incurred on the respective loan balances. In all cases, profit/loss sharing accounts receive a proportion of the profit or bear a share of loss based on the results of the respective loan balances. Profit rate risk Profit rate risk arises from the possibility that changes in the conventional profit share rate will affect the future profitability or the fair value of financial instruments. The Participation Bank is exposed to profit rate risk as a result of mismatches or gaps in the amount of assets and liabilities and off-balance sheet instruments that mature or re-price during a given period. The impact of possible changes in the profit rates in measured and the profit rate gaps are reviewed to initiate corrective action in the Participation Bank s funding profile to ensure that the overall profit rate risk remains within acceptable tolerances. The principal objective of the Participation Bank s management activities for profit share rate risk is to enhance profitability by limiting the effect of adverse profit share rate movements in the sector and increasing profit share income by managing profit share rate exposure. The Participation Bank s monitors profit share sensitivity by analysing the composition of its assets and liabilities and off-balance sheet financial instruments. The major portion of the customers current and profit sharing accounts are short term. Accordingly, profit share rates are in line with the prevailing profit share rates in the market. Therefore, the management believes that the fair value of such financing activities do not materially differ from their respective book values. 31

35 4. Financial risk management (continued) Market risk Market risk is the risk that changes in market prices, such as equity prices, foreign exchange rates and credit spreads will affect the Participation Bank s income or the value of its holdings of financial instruments. The objective of market risk management is to manage and control market risk exposures within acceptable parameters, while optimising the return on risk. Management of market risk The Participation Bank separates its exposure to market risk between trading and non-trading portfolios. Trading portfolios are mainly held by the Treasury Department, and include positions arising from proprietary position taking, together with financial assets and liabilities that is managed on a fair value basis. Overall authority for market risk is vested in Risk Management Department and ALCO. Exposure to market risk The market risk arising from the trading portfolio is monitored, measured and reported using Standardised Approach according to the legal legislation. The monthly market risk report prepared using Standardised Approach are reported to BRSA. Value at Risk ( VaR ) is also used to measure and control market risk exposure within the Participation Bank s trading and available-for-sale portfolios. The VaR of these portfolios is the estimated loss that will arise on the portfolios over a specified period of time (holding period) from an adverse market movement with a specified probability (confidence level). Average, highest and lowest values of market risks as at 30 June 2014 and 31 December 2013, calculated and reported with using the Standardised Approach as per the statutory financial statements prepared for BRSA reporting purposes within the scope of Regulation on Measurement and Assessment of Capital Adequacy Ratios of Banks published in Official Gazette no dated 28 June 2012 which is complaint to Basel II. Average, highest and lowest values of market risks as at 30 June 2014 and 31 December 2013 are as follows: 30 June December 2013 Average Highest Lowest Average Highest Lowest Interest rate risk (1) 908 1, , Common share risk Currency risk 2,846 3,261 2,492 2,897 4,348 1,722 Commodity risk 2,003 2,240 1,783 2,120 2,406 1,646 Counterparty credit risk 2,214 3,725 1,564 1,552 3, Total value at risk 99, ,765 86,387 92, ,966 59,427 (1) Includes the market effect of forward transactions and income indexed bonds. 32

36 4. Financial risk management (continued) Market risk (continued) Currency risk The Participation Bank is exposed to currency risk through transactions in foreign currencies. Management of currency risk Risk policy of the Participation Bank is based on keeping the transactions within defined limits and keeping the currency position well-balanced. The Participation Bank has established a foreign currency risk management policy that enables the Participation Bank to take a position between lower and upper limits which are determined. Euro USD Other Total 30 June 2014 Cash and balances with Central Bank 191,248 2,598,550 41,906 2,831,704 Loans and advances to banks 104, ,035 34, ,917 Loans, lease receivables and advances to customers 2,254,490 4,696,058-6,950,548 Available-for-sale investment securities , ,932 Other assets 471,722 2,130, ,564 3,257,984 Deposits from banks (176,865) (8,274) (7,820) (192,959) Deposits from customers (1,981,643) (4,164,381) (533,540) (6,679,564) Funds borrowed (357,623) (3,245,705) (833,589) (4,436,917) Debt securities issued - (2,669,537) - (2,669,537) Other liabilities (81,216) (272,996) (5,235) (359,447) Net on balance sheet position 424,392 (311,768) (647,963) (535,339) Net off balance sheet position (derivatives) (431,910) 310, , ,454 Net position (7,518) (1,616) 22,249 13,115 Euro USD Other Total 31 December 2013 Cash and balances with Central Bank 26, ,431 7, ,224 Loans and advances to banks 163, ,116 24, ,755 Loans, lease receivables and advances to customers 2,085,529 4,493,926-6,579,455 Available-for-sale investment securities , ,718 Other assets 479,608 1,806, ,187 2,912,784 Deposits from banks (116,991) (57,010) (382) (174,383) Deposits from customers (1,616,526) (3,023,737) (685,094) (5,325,357) Funds borrowed (242,241) (4,762,621) - (5,004,862) Debt securities issued Other liabilities (48,827) (116,219) (603) (165,649) Net on balance sheet position 730,698 (694,558) (27,455) 8,685 Net off balance sheet position (derivatives) (732,883) 666,557 42,098 (24,228) Net position (2,185) (28,001) 14,643 (15,543) 33

37 4. Financial risk management (continued) Market risk (continued) Exposure to currency risk A 10 percent devaluation of the TL against the following currencies as at 30 June 2014 and 31 December 2013 would change the profit or loss and other comprehensive income (without tax effects) by the amounts shown below. 30 June December 2013 Total comprehensive Profit or income (loss) Profit or (loss) Total comprehensive income USD (162) (162) (2,800) (2,800) Euro (752) (752) (219) (219) Other currencies 2,226 2,226 1,465 1,465 Total, net 1,312 1,312 (1,554) (1,554) This analysis assumes that all other variables remain constant. Operational risk Operational risk is the risk of direct or indirect loss arising from a wide variety of causes associated with the Participation Bank s processes, personnel, technology and infrastructure, and from external factors other than credit, market and liquidity risks, such as those arising from legal and regulatory requirements and generally accepted standards of corporate behaviour. Operational risks arise from all of the Participation Bank s operations and are faced by all business entities. The data of operational losses may be exposed to during the Participation Bank s activities is collected and analysed regularly by Risk Management Department and reported to Board of Directors, Audit Committee and senior management. 34

38 4. Financial risk management (continued) Operational risk (continued) The Participation Bank adopts a risk terminology which is in accordance with Basel II in order to create an international approach on Operational Risk Management. This common risk language provides a consistent view and communication about operational risk throughout the Participation Bank. Software is used in order to support the standard framework for the management of operational risk by creating the data house for risk losses and reporting of the mentioned data. The Risk Control Evaluation ( RCE ) is performed periodically in the Participation Bank as a basic principle of the Basel II Operational Risk implementations. It is aimed with RCE to restrict the operational risk effects by investigating the business processes subject to operational risk and performing controls by the process owners. In the departments where RCC study is implemented, Key Risk Indicators and the threshold value for the mentioned risk points are determined. Besides, within the Capital Adequacy Measurement and Reporting Project, the software solutions are started to be used since June 2012 in order to build a flexible parametric model to create a reporting system that is complaint with Basel II, to apply stress tests to the capital adequacy related risks and to be in compliance with the legal framework changes. The Participation Bank calculated the value of operational risk in accordance with Regulation on Measurement and Assessment of Capital Adequacy Ratios of Banks published in Official Gazette no dated 28 June 2012 which is complaint to Basel II, using the basic indicator approach with the data of last three years 2013, 2012 and The amount, calculated as TL 142,326 (31 December 2013: TL 118,776) represents the operational risk that the Participation Bank may be exposed to and the amount of minimum capital requirement to eliminate this risk. Capital management regulatory capital The BRSA sets and monitors capital requirements for the Bank as a whole. The Bank is directly supervised by local regulators. In implementing current capital requirements, the BRSA requires the banks to maintain a prescribed ratio of minimum 8% of total capital to total value at credit, market and operational risks. The Bank regulatory capital is analysed into two tiers: -Tier 1 capital, which includes paid-in capital, share premium, legal reserves, retained earnings, other comprehensive income, translation reserve and non-controlling interests after deductions for goodwill and certain cost items. -Tier 2 capital, which includes qualifying subordinated liabilities and general provisions. The BRSA also requires the banks to maintain prescribed ratios of minimum 6% and 4.5% of Tier 1 and Tier 2 capital, respectively, to total value at credit, market and operational risks starting from 1 January Banking operations are categorised as either trading book or banking book, and risk-weighted assets are determined according to specified requirements that seek to reflect the varying levels of risk attached to assets and off-balance sheet exposures. The Bank's policy is to maintain a strong capital base so as to maintain investor, creditor and market confidence and to sustain future development of the business. 35

39 4. Financial risk management (continued) Capital management regulatory capital (continued) The Participation Bank s regulatory capital position as at 30 June 2014 and 31 December 2013 was as follows: 30 June 2014 (1) 31 December 2013 Tier 1 capital 2,648,810 2,402,528 Tier 2 capital 105,684 97,482 Deductions from capital (1,997) (1,806) Total regulatory capital 2,752,497 2,498,204 Amount subject to credit risk 20,633,541 17,898,940 Amount subject to market risk 92, ,925 Amount subject to operational risk 1,779,076 1,484,700 Capital ratios Total regulatory capital expressed as a percentage of total value at credit, market and operational risks 12.23% 12.81% Total tier 1 capital expressed as a percentage of total value at credit, market and operational risks 11.77% - (1) Calculation of regulatory capital is changed effective from 1 January 2014 as per the Regulation on Equity of Banks published in the official Gazette no dated 5 September Use of estimates and judgements Determining fair values The fair values of financial assets and financial liabilities that are traded in active markets are based on quoted market prices or dealer price quotations. For all other financial instruments, the Group determines fair values using other valuation techniques. For financial instruments that trade infrequently and have little price transparency, fair value is less objective, and requires varying degrees of judgement depending on liquidity, concentration, uncertainty of market factors, pricing assumptions and other risks affecting the specific instrument. Valuation models Management has estimated that the fair value of certain financial assets and liabilities recorded at amortised cost are not materially different than their recorded values except for those of loans, leasing receivables and advances to customers, funds borrowed and debt securities issued. These financial assets and liabilities include cash and balances with Central Bank, loans and advances to banks, deposits and other short-term assets and liabilities that are of a contractual nature. Management believes that the carrying amount of these particular financial assets and liabilities approximates their fair values. 36

40 5. Use of estimates and judgements (continued) For the financial assets and liabilities such as loans and advances, funds borrowed, debt securities issued; valuation techniques include net present value and discounted cash flow models, comparison to similar instruments for which market observable prices exist. Assumptions and inputs used in valuation techniques include benchmark market rates used in estimating discount rates. The objective of valuation techniques is to arrive at a fair value determination that reflects the price of the financial instrument at the reporting date that would have been determined by market participants acting at arm s length. Availability of observable market prices and model inputs reduces the need for management judgement and estimation and also reduces the uncertainty associated with determination of fair values. Availability of observable market prices and inputs varies depending on the products and markets and is prone to changes based on specific events and general conditions in the financial markets. Fair values of the performing loans, leasing receivables and advances to customers are determined as Level 2 and calculated by using valuation techniques including net present value and discounted cash flow models. Fair values of held-to-maturity investments are determined as Level 2 and derived from prices which are announced by CBRT. The estimated fair values of financial assets and financial liabilities are as follows: Carrying amount 30 June 31 December June 2014 Fair value 31 December 2013 Financial assets Performing loans, leasing receivables and advances to customers 20,221,950 18,172,359 20,135,020 18,068,493 Held to maturity investment securities 363, ,443 - Total 20,585,308 18,172,359 20,511,463 18,068,493 Financial liabilities Funds borrowed 5,227,153 4,813,322 4,572,851 4,797,204 Debt securities issued 2,771,173 1,074,246 2,754,442 1,076,436 Total 7,998,326 5,887,568 7,327,293 5,873,640 Classification of fair value measurement IFRS 7 Financial Instruments: Disclosures requires the measurements of fair value of financial instruments to be classified in a hierarchy that reflects the significance of the valuation inputs used. This classification prioritises observable data, using market data obtained from independent sources, in preference to unobservable data that relies, for example on the use of predictions and assumptions about market prices by the Participation Bank. This sort of categorisation generally results in the classifications below: Level 1: Fair value measurements using quoted prices (unadjusted) in active markets for identical assets or liabilities; Level 2: Fair value measurements using inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly (i.e., as prices) or indirectly (i.e., derived from prices). Level 3: Fair value measurements using inputs for the assets or liability that are not based on observable market data (i.e. unobservable inputs). 37

41 5. Use of estimates and judgements (continued) The classification of fair value measurements of financial assets and liabilities measured at fair value is as follows: 30 June 2014 Level 1 Level 2 Level 3 Total Derivative assets held for trading - 27,077-27,077 Available-for-sale investment securities - 1,610,787-1,610,787 Financial assets at fair value - 1,637,864-1,637,864 Derivative liabilities held for trading - 15,773-15,773 Financial liabilities at fair value - 15,773-15, December 2013 Level 1 Level 2 Level 3 Total Derivative assets held for trading - 46,669-46,669 Available-for-sale investment securities - 1,413,025-1,413,025 Financial assets at fair value - 1,459,694-1,459,694 Derivative liabilities held for trading - 39,140-39,140 Financial liabilities at fair value - 39,140-39,140 Observable market prices such as the marketable security prices which are announced by CBRT and the prices obtained from foreign capital markets are used for fair value determination of financial assets and liabilities measured at fair value except derivative assets and derivative liabilities held for trading. The similar ratios announced in the capital markets are used for discounting the contractual prices of derivative financial assets and derivative financial liabilities for fair value determination. 38

42 6. Operating segments The Participation Bank has three reportable segments, as described below, which are the Participation Bank s strategic business units. These strategic business units offer different products and services, and are managed separately based on the Participation Bank s management and internal reporting structure. For each of the strategic business units, the Board of Directors, as the chief operating decision maker reviews internal management reports on at least a quarterly basis. The following summary describes the operations in each of the Participation Bank s reportable segments: Consumer banking This segment includes consumer lending, current accounts and consumer products which are in accordance with Islamic rules for individuals and small sized businesses. Corporate banking This segment provides banking services including all conventional credit-related products and financing products in compliance with Islamic rules for medium and large establishments and companies. It also includes international banking services. Treasury This segment provides a different range of treasury products and services, including money market and foreign exchange, to the Participation Bank s customers, in addition to carrying out investment and trading activities (local and international) and managing liquidity and market risk. Others Others are comprised of head office accounts, particularly management of a portfolio of equity holdings, other real estate and the bank premises. 39

43 6. Operating segments (continued) Information regarding the results of each reportable segment is included below. Performance is measured based on segment profit before income tax, as included in the internal management reports that are reviewed by the Board of Directors. Segment profit is used to measure performance as management believes that such information is the most relevant in evaluating the results of certain segments relative to other entities that operate within these industries. Inter-segment pricing is determined on an arm s length basis. Measurement of segment assets and liabilities and operating segment results is based on the accounting policies set out in the accounting policy notes. Since a segment can use the deposits of the other segment, there is a fund transfer between the segments. Those kinds of income and expenses generated from fund transfers are recalculated based on the average rates and average amounts. Current period Consumer banking Corporate banking Treasury Others Total Operating income (1) 193, ,197 (15,459) - 621,806 Net profit of segment (2) 21, ,336 2, ,655 Profit before tax 21, ,336 2, ,655 Tax provision (40,299) (40,299) Net period profit after tax 21, ,336 2,729 (40,299) 166,356 Assets of the segment 3,423,533 17,922,421 7,220,208 1,349,414 29,915,576 Total assets 3,423,533 17,922,421 7,220,208 1,349,414 29,915,576 Liabilities of segment 8,782,990 10,037,884 7,653, ,118 27,134,198 Shareholders equity ,781,378 2,781,378 Total liabilities and equity 8,782,990 10,037,884 7,653,206 3,441,496 29,915,576 Other segment information ,622 25,622 Depreciation ,369 25,369 Net impairment loss on financial assets ,226 61,226 (1) Operating income includes net profit share income, net fee and commission income. (2) Personnel and operational expenses are allocated based on the asset amount of the each segment. Consumer banking Corporate banking Treasury Others Total Prior period 30 June 2013 Operating income (1) 159, , , ,918 Net profit of segment (2) 70, ,945 8, ,866 Profit before tax 70, ,945 8, ,866 Tax provision (36,415) (36,415) Net period profit after tax 70, ,945 8,775 (36,415) 150,451 Assets of the segment 4,306,601 14,661,306 5,296, ,785 25,047, December 2013 Total assets 4,306,601 14,661,306 5,296, ,785 25,047,084 Liabilities of segment 9,983,968 6,492,723 5,465, ,826 22,469,804 Shareholders equity ,577,280 2,577,280 Total liabilities and equity 9,983,968 6,492,723 5,465,287 3,105,106 25,047, June 2013 Other segment information 17,636 17,636 Depreciation ,417 17,417 Net impairment loss on financial assets ,619 80,619 (1) Operating income includes net profit share income, net fee and commission income. (2) Personnel and operational expenses are allocated based on the asset amount of the each segment. 40

44 7. Net fee and commission income 30 June June 2013 Fee and commission income Commissions from non-cash loans 45,430 40,774 Credit card fees and commissions 14,632 7,238 POS commissions from members 8,293 5,810 Others 41,135 29,604 Total fee and commission income 109,490 83,426 Fee and commission expense POS transactions commission expenses 16,936 7,298 Credit card service and usage expenses 1,975 1,389 Others 17,904 14,011 Total fee and commission expense 36,815 22,698 Net fee and commission income 72,675 60,728 Net fee and commission income above excludes amounts included in determining the profit share rate on financial assets and liabilities that are not at fair value through profit or loss. 8. Net trading (loss) / income 30 June June 2013 Loss / (income) from derivative financial instruments (10,771) 11,721 Other (39) 592 Total (10,810) 12, Other operating income 30 June June 2013 Gain on sale of assets held for resale and property and equipment 6,247 4,234 Income from cheque book 4,463 2,377 Communication expenses charged to customers 3,682 3,188 Others 13,517 14,859 Total 27,909 24,658 41

45 10. Personnel expenses June June 2013 Wages and salaries 129, ,806 Short-term employee benefits 17,129 14,583 Compulsory social security obligations 16,643 12,592 Health expenses of personnel 3,849 3,261 Provision expense for employee severance indemnity 3,839 1,336 Social assistance payments 2,883 1,747 Termination payments 2,867 3,065 Others 14,095 11,570 Total 190, , Other operating expenses 30 June June 2013 Premium expenses paid for saving deposit insurance fund 16,481 12,068 Advisory expenses 7,309 3,366 Provision expense for ongoing suits 2,208 1,421 Impairment loss on asset held for resale Others 6,718 2,744 Total 32,969 19, Income taxes Components of income tax expense in the statement of profit or loss and other comprehensive income are as follows: 30 June June 2013 Income tax recognised in profit for the period Current income tax related to income from operations 48,511 41,127 Deferred income tax related to income from operations (8,212) (4,712) 40,299 36,415 Income tax recognised in other comprehensive income Deferred income tax recognised in other comprehensive income Total income tax 41,261 36,548 The movement of current tax liabilities is as follows: 30 June December 2013 At the beginning of the period 13,043 19,369 Current income tax charge 48,511 80,719 Taxes paid during the period (34,172) (87,045) Current tax liabilities 27,382 13,043

46 12. Income taxes (continued) A reconciliation of income tax expense applicable to profit from operating activities before income tax at the statutory income tax rate, to income tax expense at the Participation Bank s effective income tax rate as at and for the six month period ended 30 June 2014 and 2013 are as follows: 30 June 2014 Tax rate (%) 30 June 2013 Tax rate (%) Profit from ordinary activities before income tax 206, ,866 Taxes on income per statutory tax rate 41, , Disallowable expenses 49, , Tax exempt income (50,422) (24) (35,422) (18) Income tax expense 40, , Deferred tax assets and liabilities as at 30 June 2014 and 31 December 2013 are attributable to the items below: 30 June December 2013 Commission accruals 22,417 20,963 Portfolio basis allowance for loans leasing receivables and advances 13,200 13,657 Reserve for employee severance indemnity 7,580 6,812 Short-term employee benefits 2,727 2,319 Provision expense for law suits 1,974 1,533 Specific provision of loans, leasing receivables and advances 585 (3,894) Credit card promotion provision Loan accrual differences (10) 8 Fair value differences of derivative financial instruments (1,950) (1,506) Revaluation surplus on tangible assets (4,717) (4,717) Fixed assets depreciation difference (8,019) (9,107) Other (3,078) 5,968 Net deferred tax assets 31,110 32,412 43

47 13. Cash and cash equivalents As at 30 June 2014 and 31 December 2013, cash and cash equivalents as presented in the statement of financial position and cash flows are as follows: 30 June December 2013 Cash on hand 284, ,645 Balances with the Central Bank excluding reserve deposits 2,726, ,741 Cash in transit 18, Cash and balances with Central Bank 3,028, ,398 Loans and advances to banks (Note 14) 411, ,203 Total cash and cash equivalents in the statement of cash flows 3,440,413 1,878, Loans and advances to banks As at 30 June 2014 and 31 December 2013, loans and advances to banks comprise the followings: 30 June December 2013 TL FC Total TL FC Total Loans and advances to banks demand: Domestic banks 118, , , , , ,126 Foreign banks , , ,040 90,077 Total loans and advances to banks 118, , , , , ,203 44

48 15. Loans, lease receivables and advances to customers As at 30 June 2014 and 31 December 2013, all the loans, lease receivables and advances to customers are at amortised cost. 30 June December 2013 Performing loans 19,182,298 17,330,710 Performing lease receivables 1,039, ,649 Non-performing loans and lease receivables 529, ,072 Gross amount 20,751,819 18,613,431 Allowance for individually impaired loans and lease receivables (385,967) (312,789) Allowance for collectively impaired loans and lease receivables (95,885) (100,290) Carrying amount 20,269,967 18,200,352 Details on performing loans in terms of types are as follows; 30 June December 2013 Corporate loans 14,894,152 13,175,720 Consumer loans and credit cards 3,538,087 3,370,487 Export loans 740, ,339 Loans granted to foreign institutions - 10,672 Other 9,871 5,492 Total performing loans 19,182,298 17,330,710 45

49 15. Loans, lease receivables and advances to customers (continued) Allowance for impairment including the portfolio basis allowances 30 June December 2013 Balance on 1 January 413, ,370 Impairment loss for the period: -Charge for the period 105, ,885 -Recoveries and reversals (35,360) (64,757) -Write-offs and loans sold (255) (57,954) -Foreign exchange differences (891) 11,535 Balance at end of the period 481, ,079 The provision for possible losses is comprised of amounts for specifically identified as being impaired and nonperforming loans, leasing receivables and advances and a further portfolio-basis amount considered adequate to cover the residual inherent risk of loss present in the lending relationships presently performing in accordance with agreements made with borrowers. The amount of the portfolio basis allowance is TL 95,885 (31 December 2013: TL 100,290). Loans, lease receivables and advances to customers include the following finance lease receivables for leases of certain property and equipment where the Participation Bank is the lessor: 30 June December 2013 Gross investment in finance leases, receivable: Less than one year 416, ,164 Between one and four years 723, ,449 More than four years 65,308 56,642 Total 1,204, ,255 Unearned finance income (165,312) (126,606) Net investment in finance leases 1,039, ,649 The net investment in finance leases comprises: 30 June December 2013 Less than one year 359, ,131 Between one and four years 624, ,282 More than four years 56,348 49,236 Net investment in finance leases 1,039, ,649 46

50 16. Derivative financial instruments held for trading A derivative financial instrument is a financial contract between two parties where payments are dependent upon movements in price in one or more underlying, such as financial instrument prices, reference rates, commodity prices or indices. In the ordinary course of business, the Participation Bank enters into various types of transactions that involve derivative financial instruments. Derivative financial instruments used include currency forwards and cross currency swaps. The tables below show the contractual amounts of derivative instruments analysed by the term to maturity. The contractual amount is the amount of a derivative s underlying asset, reference rate or index and is the basis upon which changes in the value of derivatives are measured. The contractual amounts indicate the volume of transactions outstanding at the period- end and are neither indicative of the market risk nor credit risk. The fair value of derivative financial instruments is calculated by using forward exchange rates at the reporting date. In the absence of reliable forward rate estimations in a volatile market, current market rate is considered to be the best estimate of the present value of the forward exchange rates. 30 June December 2013 Fair value Fair value Notional Fair value Fair value Notional assets liabilities amount assets liabilities amount Forward contracts 12,397 5,311 3,131,219 42,998 25,159 3,957,109 Currency swap contracts 14,680 10,462 5,496,574 3,671 13,981 3,670,412 Total 27,077 15,773 8,627,793 46,669 39,140 7,627,521 Up to 1 month 1 to 3 months 30 June to 12 1 to 5 months years Over 5 years Total Forward contracts 2,688, , , ,131,219 Currency swap contracts 4,172, ,079 57,370 1,057,488-5,496,574 Total of transactions 6,860, , ,359 1,057,488-8,627,793 Up to 1 month 1 to 3 months 31 December to 12 1 to 5 months years Over 5 years Total Forward contracts 2,858, , , ,957,109 Currency swap contracts 3,356, , , ,670,412 Total of transactions 6,214,907 1,051, , ,627,521 47

51 17. Investment securities Available-for-sale investment securities 30 June December 2013 Government bonds and sukuks 1,606,414 1,408,649 Unquoted equity securities at cost 4,373 4,376 Total 1,610,787 1,413,025 As at 30 June 2014, the Participation Bank s available for sale investment securities comprised of sukuks (rent certificates) at a total face value of TL 1,575,748 (31 December 2013: TL 1,427,083) and a total carrying value amounting to TL 1,606,414 (31 December 2013: TL 1,408,649). The coupon payments of these sukuks are semiannually with annual coupon rates between 2.80% and 4.56% for USD and between 5.70% and 10.60% for TL denominated sukuks and their maturities are 2018 for USD sukuks and between 2014 and 2016 for TL sukuks. Unquoted equity securities at cost is mainly comprised of the equity participation to Kredi Garanti Fonu AŞ amounting to TL 4,211 (31 December 2013: TL 4,211). Held to maturity investment securities As at 30 June 2014, the Participation Bank acquired sukuk is classified as Held to maturity investment securities at a total face value of TL 350,000 (31 December 2013: None) and a total carrying value amounting to TL 363,358 (31 December 2013: None).The coupon payment of sukuk is semi-annually with annual coupon rate 5.30% for TL with the maturity of 17 February

52 18. Property and equipment and intangible assets Movements in property and equipment and intangible assets from 1 January to 30 June 2014 and 31 December 2013 are as follows: Property and equipment 1 January 2014 Additions Disposals Value increase Transfers 30 June 2014 Cost: Land and buildings 115, , ,885 Leased tangible assets 5, ,782 Other tangible assets (1) 217,370 17,824 (11,824) - 1, , , ,559 (11,824) - 1, ,203 Accumulated depreciation: Land and Buildings (2,288) (154) (2,442) Leased tangible assets (5,782) (5,782) Other tangible assets (1) (118,543) (15,951) 10,972 - (163) (123,685) (126,613) (16,105) 10,972 - (163) (131,909) Net book value 211, ,294 (1) Other tangible assets are mainly comprised of leasehold improvements and fixtures and furniture. The Bank adopted a revaluation method in 2006 for its land and buildings in tangible assets. Expert values determined in December 2012 by an independent expert company by using precedent comparison method- are reflected to the financial statements. Such revaluation increase is realized net TL 89,615 after deferred tax as of balance sheet date (31 December 2013: TL 89,615). As of 30 June 2014 the cost of those tangible assets are amount TL 176,971 (31 December 2013: TL 21,236) and fair value is amount to TL 270,885 (31 December 2013: TL 115,150). The fair value measurement for investment property has been categorised as a level 2 fair value based on the inputs to the valuation techniques used. This category includes assets valued using: quoted market prices in active markets for similar assets; quoted prices for identical or similar assets in markets that are considered less than active; or other valuation techniques in which all significant inputs are directly or indirectly observable from market data. Property and equipment 1 January 2013 Additions Disposals Value increase Transfers 31 December 2013 Cost: Buildings 115, ,150 Leased tangible assets 6, (1,197) 5,782 Other tangible assets (1) 181,848 41,010 (6,685) - 1, , ,977 41,010 (6,685) ,302 Accumulated depreciation: Buildings (1,913) (375) (2,288) Leased tangible assets (6,923) (56) - - 1,197 (5,782) Other tangible assets (1) (98,524) (25,228) 6,406 - (1,197) (118,543) (107,360) (25,659) 6, (126,613) Net book value 196, ,689 (1) Other tangible assets are mainly comprised of leasehold improvements and fixtures and furniture. 49

53 18. Property and equipment and intangible assets (continued) Intangible assets 1 January 2014 Additions Disposals Transfers 30 June 2014 Cost: Software programmes 77,824 8,254 (6) (1,166) 84,906 77,824 8,254 (6) (1,166) 84,906 Accumulated amortisation: Software programmes (40,675) (9,264) (49,776) (40,675) (9,264) (49,776) Net book value 37,149 35,130 1 January 2013 Additions Disposals Transfers 31 December 2013 Intangible assets Cost: Software programmes 47,818 30, ,824 47,818 30, ,824 Accumulated amortisation: Software programmes (28,937) (11,738) - - (40,675) (28,937) (11,738) - - (40,675) Net book value 18,881 37,149 There were no capitalised borrowing costs related to the acquisition of plant and equipment and to the internal development of software during the period (31 December 2013: None). There are no restrictions such as pledges, mortgages or any other restriction on the property and equipment. During 2014 and 2013, the Participation Bank identified no events or circumstances that would indicate that the Participation Bank s intangible assets may be impaired. 50

54 19. Other assets 30 June December 2013 Reserve deposits at Central Bank of Turkey 3,253,508 2,906,724 Receivables from cheque clearing and credit card POS machines 361, ,282 Assets held for resale (net) 42,572 41,381 Others 111,277 73,800 Total other assets 3,768,440 3,227,187 At 30 June 2014, reserve deposits at the Central Bank of Turkey ( CBT ) were kept under the minimum reserve requirement. These funds are not available for the daily operations of the Participation Bank. As required by the regulation, these reserve deposits are calculated on the basis of liabilities of the Participation Bank after some deductions, at the rates determined by the CBT. In accordance with the current legislation, the reserve deposit rates for TL and foreign currency deposits vary between 5% and 13% according to the maturities (2013: between 5% and 13% for TL and foreign currency). These reserve deposit rates are applicable to deposits from banks and customers. As at 30 June 2014, TL 42,572 (31 December 2013: TL 41,381) of the other assets is comprised of foreclosed real estate acquired by the Participation Bank against its impaired receivables. Such assets are required to be disposed of within three years following their acquisitions per the Turkish Banking Law. This three year period can be extended by a legal permission from BRSA. The impairment losses of foreclosed real estate acquired as at 30 June 2014 is TL 253 (31 December 2013: TL 426). 20. Deposit from banks As at 30 June 2014 and 31 December 2013, deposits from banks comprise of current accounts amounting to TL 460,551 (TL 192,959 denominated in foreign currency) and TL 350,617 (TL 174,383 denominated in foreign currency), respectively. 21. Deposit from customers As at 30 June 2014 and 31 December 2013, deposits from customers comprise the following: 30 June December 2013 Profit sharing Current deposits account Current account Profit sharing deposits Saving deposits-tl 887,850 6,238, ,578 5,723,278 Saving deposits-fc 683,285 3,307, ,337 2,670,201 Public, commercial and other enterprises-tl 1,098,114 1,885,218 1,229,316 1,623,730 Public, commercial and other enterprises-fc 652,979 2,049, ,071 1,373,110 Total deposits from customers 3,322,228 13,480,137 3,428,302 11,390,319 51

55 22. Funds borrowed and debt securities issued As at 30 June 2014 and 31 December 2013, funds borrowed are all in foreign currency denominated and detailed as follows: 30 June December 2013 Short-term 2,089,257 1,662,878 Long-term 3,137,896 3,150,444 Total 5,227,153 4,813,322 The Participation Bank borrowed four syndication loans which will mature in June 2015 amounting to USD 593,500,000 and EUR 85,500,000. The portion amounting to USD 340,000,000 and EUR 13,500,000 of syndication loans was borrowed in June 2013 and the remaining portion was borrowed in June On 2 May 2013, the Participation Bank issued the rent certificates amounting to USD 500,000,000 (TL 1,067,150) through its subsidiary with 5 years maturity and with a semi-annually coupon payment at a profit rate of 3.95%. These certificates are backed by lease receivable. On 2 May 2013, the Participation Bank issued the rent certificates amounting to USD 500,000,000 through its subsidiary with 5 years maturity and with a semi-annually coupon payment at a profit rate of 3.95%. Additionally, the Participation Bank issued the rent certificates amounting to TL 100,000 with 6 months maturity on 21 January 2014 and amounting to TL 31,500 with 3 years maturity on 22 January The Participation Bank issued the rent certificates amounting to USD 500,000,000 on 24 April 2014 and MYR 800,000,000 on 30 June 2014 with a maturity of 5 years. 52

56 23. Provisions 30 June December 2013 Provision for non-cash loans and cheques 59,662 67,849 Reserve for employee severance indemnity 37,899 34,060 Short-term employee benefits 26,316 36,051 Provision for law suits against the Participation Bank 9,871 7,663 Provision for credit card promotions 2,006 1,880 Total 135, ,503 Under the Turkish Labour Law, the Group entities are required to pay termination benefits to each employee who has completed one year of service and whose employment is terminated without due cause, is called up for military service, dies or who retires. Reserve for retirement pay is computed and reflected in the financial statements on a current basis. The reserve has been calculated by estimating the present value of future probable obligation of the Participation Bank arising from the retirement of the employees. IAS 19 ( Employee Benefits ) requires actuarial valuation methods to be developed to estimate the bank s obligation under defined employee plans. IAS 19 ( Employee Benefits ) has been revised effective from the annual period beginning after 1 January In accordance with the revised standard, actuarial gain / loss related to employee benefits shall be recognised in other comprehensive income. The average discount rate is 6.20% and share rate is 9.50% at the respective balance sheet date (31 December 2013: 6.20% and 9.50%). The calculation was based upon the retirement pay ceiling announced by the Government. Movement in the reserve for employee severance indemnity is as follows: 30 June December 2013 Balance on 1 January 34,060 15,824 Current service cost 2,305 2,317 Profit share cost 1,534 1,127 Actuarial profit/loss (1) - 16,702 Accounted profit/loss - 1,297 Indemnity paid during the period - (3,207) Total 37,899 34,060 (1) Actuarial gains/losses, calculated as TL 16,702 in relation to the reserve for employee termination benefits, are shown as TL 13,362 under shareholders equity offsetting deferred tax of TL 3,

57 23. Provisions (continued) The movements of the provisions including provision for non-cash loans and cheques, short-term employee benefits, law suits against the Participation Bank and credit card promotions as at and for the six month period ended 30 June 2014 and 31 December 2013 are as follow: Provision for non-cash loans and cheques Short-term employee benefits Provision for law suits Provision for credit card promotions Total Balance as at 1 January ,849 36,051 7,663 1, ,443 Provision for the period 21,030 17,129 2, ,493 Recoveries and reversals (29,217) (26,864) - - (56,081) Balance as at 30 June ,662 26,316 9,871 2,006 97,855 Provision for non-cash loans and cheques Short-term employee benefits Provision for law suits Provision for credit card promotions Total Balance as at 1 January ,998 30,821 4,913 1, ,065 Provision for the year 16,126 7,689 2, ,361 Recoveries and reversals (13,275) (2,459) (249) - (15,983) Balance as at 31 December ,849 36,051 7,663 1, , Other liabilities 30 June December 2013 Payable to cheque clearing account 750, ,988 Cash guarantees received 286, ,207 Blocked accounts 167, ,435 Unearned income 112, ,487 Blocked accounts against expenditures of credit card holders 110,783 87,454 Taxes payable other than income tax 33,637 29,078 Payment orders 16,441 11,524 Import transfer orders 13,988 23,456 Others 202,056 43,683 Total 1,694,047 1,213,312 54

58 25. Capital and reserves Share capital 30 June December 2013 Number of common shares, TL 1 (in full TL), par value Authorised, issued and outstanding as thousands 1,775,000,000 1,775,000,000 Total 1,775,000,000 1,775,000,000 The authorised nominal share capital of the Participation Bank is TL 1,775,000 as at 30 June 2014 (31 December 2013: TL 1,775,000). Fair value reserve available for sale financial assets Revaluation of available-for-sale financial assets is detailed as follows: 30 June December 2013 Balance at the beginning of the year (36,795) 6,901 Net change in fair value of available-for-sale financial assets 46,216 (54,487) Related deferred income taxes (9,436) 10,924 Net amount transferred to profit or loss 962 (133) Balance at the end of the period/year 947 (36,795) Revaluation reserve buildings Revaluation of buildings is detailed as follows: 30 June December 2013 Balance at the beginning of the year 89,615 89,615 Net change in revaluation of tangible assets - - Related deferred income taxes - - Balance at the end of the period/year 89,615 89,615 Other reserves Other reserves consist of legal reserves kept within the Participation Bank. The legal reserves consist of first and second reserves, appropriated in accordance with the Turkish Commercial Code ( TCC ). The TCC stipulates that the first legal reserve is appropriated out of statutory profits at the rate of 5%, until the total reserve reaches 20% of the Participation Bank s paid-in share capital. The second legal reserve is appropriated at the rate of 10% of all cash distributions in excess of 5% of the paid-in share capital. Under the TCC, the legal reserves can only be used to offset losses and are not available for any other usage unless they exceed 50% of paid-in share capital. 55

59 26. Related party transactions Parties are considered to be related if one party has the ability to control the other party or exercise significant influence over the other party in making the financial and operating decisions. The shareholders of the Participation Bank namely the National Commercial Bank, Boydak Group and Ülker Group and all their subsidiaries, and their ultimate owners, directors and executive officers are referred to as related parties. During the course of the business, the Participation Bank has granted loans, advances and lease receivables to related parties and also received deposits from these related parties at various terms. These are all commercial transactions and realised on an arms-length basis. Related party transactions are as follow: 30 June December 2013 Balances with the related parties: Loans and advances to customers 105, ,371 Lease receivables 13,424 19,289 Funds borrowed 1,113,191 1,114,834 Deposits 221, ,586 Non-cash loans 110, , June June 2013 Transactions with the related parties: Profit share income 23,975 13,083 Profit share expense on deposits (6,503) (10,037) Profit share expense on borrowings (21,023) (17,197) In addition to the transactions and balances explained in the note above, the total remuneration of directors and other key members of key management as at for the six month period ended 30 June 2014 and 2013 are as follow: 30 June June 2013 Short-term compensation of key management personnel 7,117 7,278 Other benefits Total 7,848 8,175 No impairment losses have been recorded against balances outstanding during the year with related parties and no specific allowance has been made for impairment losses on balances with the related parties as at 30 June 2014 and 31 December

60 27. Commitments and contingencies 30 June December 2013 Letters of guarantee 8,125,978 7,726,279 Commitments 2,096,370 1,870,092 Letters of credit 807, ,920 Acceptances 502, ,940 Total 11,532,658 10,774,231 Litigations There are 1,843 ongoing law suits filed against the Participation Bank as at reporting date. Total amount of these suits are TL 170,787 (31 December 2013: 910 suits, TL 168,231). TL 9,871 of provision for ongoing law suits for which cash outflow is probable and measurable reliably is set by the Participation Bank in the financial statements (31 December 2013: TL 7,663). 28. Group subsidiaries The table below provides details of the significant subsidiaries of the Group. Ownership interest Principal place of business 30 June December 2013 TF Varlık Kiralama AŞ Istanbul/Turkey 100% 100% TF Varlık Kiralama AŞ, which was established on 11 February 2013 and the subsidiary of the Parent Participation Bank with 100% ownership is fully consolidated in the consolidated financial statements of the Participation Bank starting from 30 June TF Varlık Kiralama AŞ which is wholly owned by the Parent Participation Bank was established to generate (leasing/rental) income by leasing assets back to the originating company which were taken over from the originating company; by issuing leasing certificate related to aforementioned leasing (rental) income and then transferring the related assets back to the originating company. 29. Operating leases As at 30 June 2014 and 31 December 2013, the future minimum lease payments under cancellable operating leases were payable as follows: 30 June December 2013 Less than one year 2,722 2,119 Between one and five years 79,855 90,954 More than five years 191, ,566 Total 273, ,639 57

61 30. Events after the reporting period As per the decision taken by Board of Directors on 27 June 2014, the Participation Bank s share capital will be increased by TL 825,000 from TL 1,775,000 to TL 2,600,000. The part of this increase amounting to TL 625,000 will be transferred from reserve fund and the remaining part amounting to TL 225,000 will be paid in cash. According to the decision of Board of Directors, asset rent company named TFKB Varlık Kiralama AŞ was established on 8 July 2014 purposing rent certificate issues with the capital TL